THQ First to Fall to Facebook, App Store

Mobile, social games putting a hurt on traditional game companies

By Anthony John Agnello, Consumer and Technology Writer

Time is not kind to technology stocks. Consumer tastes change, new machines replace the old, and trends, brands and franchises eventually are forgotten or transformed. Compare 2011 to 2001: Nokia (NYSE:NOK) was the undisputed ruler of the mobile phone industry. Now it watches its value crumple as Apple (NASDAQ:AAPL) comes to define the smartphone market. Yahoo (NASDAQ:YHOO) was the search engine of choice. Now consumers barely remember that Yahoo offers the same core service as Google (NASDAQ:GOOG). Video game publisher and developer THQ (NASDAQ:THQI) was a player in the league of Activision Blizzard (NASDAQ:ATVI) and Electronic Arts (NASDAQ:ERTS). Today it trades below $2. What killed THQ? Not Call of Duty. It was the App Store and Facebook.

On Wednesday morning, THQ announced that it will shut down three of its development studios and lay off 200 employees. Two of the company’s long-running franchises — science fiction game Red Faction and motocross racing game MX vs. ATV — also will be shut down after the most recent entries of both tanked at retail. Red Faction: Armageddon, released earlier this summer, had a particularly spectacular failure as it was heavily promoted in conjunction with Comcast‘s (NASDAQ:CMCSA) SyFy channel.

These are just the latest moves in a stream of cost-cutting measures enacted by THQ over the past six months. It began with the release of Call of Duty competitor Homefront. Even after that game sold more than 1 million copies after it debuted in March, THQ closed Kaos Studios, the makers of the game.

Brian Farrell, THQ CEO, said his company would turn things around by “making shifts to reduce movie-based and licensed kids’ video games” and focusing instead on original intellectual properties to try and compete for the core gaming audience. THQ is pinning its hopes in upcoming titles like Saints Row the Third to capture Take-Two‘s (NASDAQ:TTWO) Grand Theft Auto audience, and Darksiders II to capture Sony‘s (NYSE:SNE) God of War audience.

It’s a flawed strategy. Licensed properties were precisely what gave THQ its greatest years of prosperity. Between 1998 and 2008, THQ had almost exclusive control of licensed video games targeted at children, with lucrative, lasting contracts with Viacom (NYSE:VIA) to publish titles based on Nickelodeon properties like Spongebob Squarepants, Disney (NYSE:DIS) for games based on Pixar films like Cars, and a plethora of games based on Cartoon Network shows owned by Time Warner (NYSE:TWX).

Prior to the 2008 crash, THQ traded just below $40 and saw nearly four times the daily trading it does today, and it was all thanks to the success of licensed games. Why turn away from that business model now?

The answer is simple: It can’t sustain it. THQ is the first fatal casualty in the retail video game industry’s conflict with mobile and social games. Where Viacom, Disney and Time Warner would turn to THQ to churn out cheap licensed product for old platforms like Nintendo‘s (PINK:NTDOY) Nintendo DS and Sony’s PlayStation 2, they now can hire independent designers to create far more lucrative and far cheaper products for Facebook and Apple’s iPhone.

Disney alone enjoys a Facebook audience of more than 3 million users. If it wants to promote a film with a new game, why not generate revenue through a platform with zero manufacturing cost? The era of the best-selling Spongebob flying of shelves at Gamestop (NYSE:GME) has been replaced by Rovio’s Angry Birds, a game on digital platforms whose mascots are as recognizable as anything owned by Disney or Viacom.

Who’s next? Activision and Electronic Arts won’t see a similar fate any time soon, but other game publishers that rely heavily on licensed products such as Sega (PINK:SGAMY) will watch more and more of their business disappear to these platforms. Time is cruel that way.

As of this writing, Anthony John Agnello did not own a position in any of the stocks named here. Follow him on Twitter at @ajohnagnello and become a fan of InvestorPlace on Facebook.

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